Indexed Universal Life: A Primer And A Forecast
January 9, 2010 by Sheryl J. Moore
- By SHERYL MOORE
It’s been nearly 30 years since consumers were first offered the benefits of universal life insurance. With UL came flexibility in premium payments, death benefit options, coverage amounts and all sorts of other things that they never dreamed of.
Now, fast forward to 1997 when the first indexed UL was introduced. This was just like any other UL, but it had a different way of crediting interest, based on the performance of an external index (such as the S&P 500).
Sales of indexed UL—or IUL, as it is often called—were just a drop in the bucket at first. Seven carriers brought in just under $65 million in premium in 1998.
Skeptics prophesized that the product line would not last long. Little did they realize that the appeal of the product’s higher upside potential would keep consumers interested during low interest rate environments and that its downside guarantees would be especially important (particularly for those who saw the stock market tank after the turn of the century).
So, where is IUL today? Not only are sales burgeoning, but carriers are jumping to get into this emerging market. Active carriers are revamping product, doing what they can to offer value-added benefits and trying to catch the attention of agents.
At the close of 2005, sales nearly had tripled over 1998 levels—to $185.7 million. Today, 22 carriers compete—a remarkable increase considering that only 12 carriers were offering product a year ago. Another 20 carriers are on the radar, toying with the idea of developing product within the next year or so, and of those, seven will definitely enter within the next year.
All of this excitement leaves existing carriers that once had large market shares of a smaller IUL world competing to differentiate themselves in an increasingly cutthroat market. Where once there were very few IUL designs, now there are many, including IUL with extended no-lapse guarantees, single premium plans, survivorship life policies and even a return-of-premium design. This design variety will only intensify in coming years.
How does IUL differ from traditional UL? Much depends on carrier and pricing level, but here are some general points:
Fixed strategy rate. The IUL has a company-declared rate on the fixed strategy (if any); this rate would be comparable to traditional UL rates. Fixed strategy rates on IULs today range from 3.75% to 5.27%.
Guaranteed rate. This is the underlying minimum guaranteed interest to be credited on the policy. On a traditional UL, these minimum guarantees usually run 2% to 3%, whereas on IULs, they typically credit 1% to 2% due to the IUL’s higher potential for credited gains. (Note: Minimum IUL guarantees are not always credited annually; some credit over a five-year period or even over the lifetime of the policy.)
Index. This is the IUL’s underlying external benchmark upon which the crediting of excess interest is based. Six of the 22 carriers in the market today offer an alternative index to the S&P 500 on their product strategies. Indices offered via IUL strategies include the S&P 500, S&P 400, Nasdaq-100, Russell 2000 and DJIA. Traditional ULs do not benchmark to such an index.
Participation rate. This is the percentage of positive index movement credited to the IUL (i.e., if the S&P 500 increased 10%, and the IUL had an annual participation rate of 60%, the policy would receive interest credited of 6% at policy anniversary). Participation rates on IULs today range from 60% to 135%. Traditional ULs do not have participation rates.
Cap. This is the maximum interest rate that will be credited to the IUL for the year or period, or the maximum index growth upon which interest will be calculated (i.e., if the S&P 500 increased 10%, and the IUL had an annual participation rate of 100% and a cap of 8%, the policy would receive interest credited of 8% at policy anniversary.) Annual point-to-point caps on IULs today range from 7.75% to 14%. Traditional ULs do not have caps.
Crediting method. This is the formula used to determine the excess interest that is credited to the IUL above the minimum guaranteed rate. There are far fewer crediting methods in the world of IUL than in the world of indexed annuities. General methods include: annual point-to-point, inverse annual point-to-point, two-year point-to-point, monthly averaging, daily averaging, monthly point-to-point, fixed, and minor variations among these. Traditional ULs do not have such formulas.
Illustrated rate. This is the rate at which a carrier decides to project policy values hypothetically in a sales illustration. On a traditional UL illustration, the policy is projected at the new money or portfolio rate declared by the company to be credited annually (currently from 4.30% to 5.65%). On IUL sales illustrations, the potential interest credited is based on fixed strategy rates, participation rates and caps. To illustrate the plan, IUL carriers show an “illustrated rate.” Such rates today range from 4.64% to 9.79%. (Note: Actual credited rates will be higher or lower than the illustrated rate on the sales illustration.)
Illustrated rate basis. This is the method upon which the IUL carrier has determined its illustrated rate. It takes into account current participation rates, current caps and a review of the historical performance of the index measured. The illustrated rate basis varies from a 54-year guideline, a 25- to 35-year lookback, a 20-year lookback, a 15-year lookback, to even no lookback at all. Note: Different carriers using a 15-year lookback do not necessarily use the same calculation for their illustrated rate basis.
This all raises an interesting discussion. Traditional ULs are illustrated at the company-declared rate credited annually (in the 4% to 6% range). Variable ULs, on the other hand, usually are illustrated in the 8% to 10% range, far below the maximum imposed by the National Association of Insurance Commissioners. However, there are IULs today being illustrated nearly as high as their VUL counterparts. Should an IUL with a downside guarantee and an upside cap be illustrated at a rate comparable to a VUL with no downside guarantees and unlimited upside potential?
Like any interest-sensitive life insurance product, IUL needs to be monitored to see that it is being funded at an appropriate premium level based on the interest earned.
IUL is a growing line, with the potential to be a mainstream product, just as successful as UL or VUL.